Where the Gunns board went wrong

Investors in failed Tassie timber company Gunns who are holding their breath until the middle of October should make an appointment with their favourite shrink to have their head examined on October 16.

That is when investors will learn the fate of the funds that were handed over to Gunns before the appointment of an administrator, who is trying to flog a couple of used sawmills to investors from China.

That is also the day when it will become obvious that there is no way that the pulp mill can avoid throwing a few hundred workers on to the wood pile.

Gunns issued $120 million worth of hybrids back in 2005 with a face value of $100, which paid floating interest at the bank swap rate plus a margin of 2.5% – a similar arrangement to many of the current hybrid issues. In October 2008, these were to be redeemed for cash, converted into ordinary shares or the margin would “step-up” to 5%, which is what actually happened.

By early 2009, as the global financial crisis hit, the hybrid share price had halved, which meant that the effective interest rate that investors received soared to about 18% per annum. The company apparently had assets that more than covered all its debts, so there was a possibility of a 100% capital gain if and when the hybrid was redeemed. See more here.

Distributions continued without interruption through until April this year even though trading in both the hybrid and the ordinary shares was suspended in March. In August the company announced it was converting the hybrids to ordinary shares, removing any hope that hybrid holders would rank as creditors – they were, and always had been, equity investors.

When the company got into trouble, it determined that it didn’t owe these investors money and wasn’t going to treat them as debtors. Instead, the owners of these notes are now down at the bottom of the pile alongside ordinary shareholders.

Last week the directors of Gunns still appeared to be oblivious to their role in the trashed value of a once-great company when they indicated to the ASX that they (and the gaggle of fund managers with which they were associated) were disappointed that their lenders had finally decided that enough was enough. The directors stated the company was unable to continue trading and the directors had appointed an administrator.

The lesson for other leading companies is that serious action came too late: heads should have rolled years ago. The board and fund managers pumped other people’s money into what could arguably have been seen as a fantasy: that the world market could be turned on its head, that the financial cavalry was just around the corner and that the ANZ bank was going to defy logic by allowing the company to pursue a mill that was as much a politically-fuelled  dream as an economic one.

Even the fund managers close to the former chairman, John Gay who is battling charges of insider trading, failed to demand accountability from a board that had seen share price plummet thousands of percent into a trading halt.

The behaviour of the board and fund managers deserves criticism because their behaviour mimics the definition of insanity: the belief that doing more of the same and expecting a different outcome is ever justified.

The blame for the demise of the company and it mill is falling on environmentalists who argued for alternative uses of the timber at an alternative site owned by the company. How could these fund managers be enabled to pour millions of dollars down the drain?

My concern is that none of these fund managers are being held to account.